Avoid liquidity bottlenecks: How to protect your company from financial bottlenecks

Liquidity bottleneck: definition and meaning

There is a liquidity bottleneck when your company does not have Sufficient liquid assets to pay short-term liabilities such as salaries, rents or supplier invoices on time.

It may well be that your company is generally profitable and customers simply pay late or own assets, but these cannot be converted into cash quickly enough. In short: The incoming payments come later than the payment obligations are due — and this can quickly lead to problems, because without sufficient liquidity, a company is threatened insolvent to become.

When is there a liquidity bottleneck?

A liquidity bottleneck often occurs when regular outgoing payments are met with late or irregular payments. In such cases, you cannot fulfill your payment obligations on time, which can lead to reminder fees, interest payments and, in the worst case, even insolvency.

Important to know: A liquidity bottleneck doesn't automatically mean that your company is bankrupt. A bottleneck is a short-term problem that often results from uneven cash flows or unexpected costs. As long as your company is profitable in the long term and has sufficient assets, you can bridge a liquidity bottleneck and avoid long-term problems with the right measures.

Liquidity bottleneck example: What happens if you don't act on time?

A classic example of a liquidity bottleneck could look as follows: A medium-sized mechanical engineering company has just received several major orders. However, customers only pay 60 days after delivery, while the company's suppliers require advance payments. In addition, salaries and running costs must continue to be covered. Although the company is actually profitable, there is a lack of liquidity in the short term to service its liabilities. In this case, the company faces a liquidity bottleneck — although the necessary money is theoretically available, it is not immediately available.

With forward-looking planning and the use of measures such as factoring, the company could have prevented the bottleneck by gaining immediate liquidity from outstanding receivables.

What are the effects of a liquidity bottleneck?

A liquidity bottleneck can cause more than just stress and have serious consequences for your company:

1. Worse relationships with suppliers

If invoices are not paid on time, the trust of your suppliers suffers. You could insist on only delivering in advance, or end the cooperation altogether.

2. Loss of creditworthiness

Banks and lenders pay close attention to whether you make your payments on time. A liquidity crunch can lower your rating and make it harder to obtain loans in the future.

3. Restrictions in daily business

If there is suddenly no money to make important investments or accept new orders, growth stagnates. Your company is losing flexibility and innovative strength.

4. Existence risk

In the worst case scenario, a prolonged liquidity shortage can lead to insolvency, causing the company serious financial difficulties. Such bottlenecks can quickly threaten the existence of small and medium-sized enterprises (SMEs) in particular.

Reasons for liquidity bottlenecks: Identify possible causes early

Liquidity bottlenecks rarely arise out of thin air. Rather, there are clear triggers, which are usually based on financial planning errors or unforeseen developments are attributable. In order to identify liquidity bottlenecks and prevent them at an early stage, it is important to know the most common causes and use the right tools to monitor the financial situation. Here are some of the most important reasons for a liquidity bottleneck and how to identify them early on.

1. Late payments

One of the most common causes of liquidity problems is late payments from customers. Longer payment periods of 30, 60 or 90 days can mean that you lack liquid funds in the short term to cover current liabilities.

early diagnosis: In order to identify this cause at an early stage, it is important to regularly check your accounts receivable and establish an effective dunning system. Automated payment reminders and incentives such as discounts can speed up payment flows. Auch factoring can help: In doing so, you sell outstanding receivables to a service provider and receive immediate liquidity.

2. Unforeseen expenditure

Unexpected costs, such as repairs, rising raw material prices, back tax payments or sudden investments, can severely impact your liquidity. It becomes particularly critical when these expenses are unplanned and your liquidity planning does not provide a reserve for such cases.

early diagnosis: A solid financial planning should always include buffers for unforeseen expenses. Through regular liquidity forecasts, such as those used with financial tools such as Tidely are possible, you can see in good time when your liquidity might be tight and react accordingly.

3. Fluctuating sales

In many industries, there are seasonal fluctuations that result in irregular income. Companies in retail or tourism in particular often experience months with very high but also very low sales. Without appropriate reserves, this can quickly lead to a liquidity bottleneck in times of low turnover.

early diagnosis: Pay attention to seasonal trends in your sales and plan ahead of time for phases with lower income. Accurate cash flow management software and good Scenario planning and forecasting help you to anticipate these fluctuations and avoid bottlenecks.

4. Lack of financial planning

Another reason for the existence-threatening economic situation and the liquidity bottleneck is the underestimation of detailed and continuous financial planning. If you don't have a clear overview of your income and expenses as well as future liabilities, you can easily run into financial difficulties.

early diagnosis: With modern liquidity management software, you always have a precise overview of your financial situation. Regular financial reports and daily updated data enable you to identify potential bottlenecks in good time.

5. Growth without sufficient liquidity

When your company expands, not only does income increase, but also spending — for example through higher salaries, new investments, or larger inventories. If this growth is not backed by sufficient liquidity reserves, you may lack the necessary money to cover running costs.

early diagnosis: Plan your growth proactively and make sure that your liquidity always grows with you. By accurately forecasting your incoming and outgoing payments during growth phases, you ensure that your company has sufficient liquidity.

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Bridging liquidity bottlenecks: measures and preventive approaches

Even with good planning, unexpected events, such as crises or pandemics, can lead to liquidity bottlenecks — one example of this is Corona pandemic in 2020. During this time, many companies faced major challenges: Revenues suddenly plummeted, while fixed costs had to continue to be covered.

Here are some immediate measures you can take to bridge an acute liquidity shortage, and some preventive approaches to avoid bottlenecks in the long term:

Immediate measures: Quick help with liquidity problems

• Use current account credit
  A current account loan offers a short-term solution to bridge bottlenecks. This credit line allows you to To overdraw your business accountto cover ongoing payment obligations such as rents, wages and invoices. It's a quick, flexible option, but one that needs to be well planned as interest rates are often high.
• Request repayment suspension
  If you service loans, you can request a repayment suspension from your bank in the event of a liquidity bottleneck. This gives you temporary financial leeway by suspending repayments for a certain period of time. In this way, you can release liquidity in the short term without additional debt to record.
• Factoring as immediate aid
  When factoring Do you sell outstanding receivables to a service provider and receive immediate liquidity. This is particularly helpful when customers have long payment periods, but you need funds in the short term to meet payment obligations. Factoring ensures continuous incoming payments and reduces the risk of payment difficulties.

Preventive approaches: avoid liquidity bottlenecks in the long term

• Minimize receivables
  Long payment terms and late payments are a common cause of liquidity bottlenecks. Make sure that your collection system is efficient and offer customers Incentives such as discounts for faster payment. A regular review of your debtors helps you identify potential bottlenecks at an early stage.
• Optimize working capital management
  Effective working capital management helps you to to shorten the period between incoming and outgoing payments. This means keeping an eye on your fixed costs and making sure that your current assets are optimally used. This allows you to maintain sufficient liquidity in the company.
• Reduce spending and make it flexible
  One way to avoid liquidity problems is to reduce or make fixed costs more flexible. Negotiate with your suppliers to better payment terms , or consider whether some of your regular spending can be optimized. Avoiding unnecessary costs creates additional cushion for bridging bottlenecks.

Avoid liquidity bottlenecks with a liquidity management tool

Identifying liquidity bottlenecks early on and taking timely action is crucial for the success of your company. In addition to some immediate measures, there are also tools that help you avoid liquidity bottlenecks permanently. Tidely offers you the perfect solution for this: With our modern liquidity management tool, you have full control over your deposits and withdrawals at any time. Tidely allows you to to monitor payment flows in real time and to identify bottlenecks early on.

The software provides you with automated reports and a daily financial overview so that you can react immediately when a liquidity bottleneck emerges. Whether through precise cash flow analyses, the optimization of liabilities or a predictive liquidity planning with the help of auto forecasts and planning templates — with Tidely, you can take flexible measures and thus ensure the solvency of your company in the long term.

FAQ

What is a liquidity bottleneck?

A liquidity bottleneck occurs when a company does not have enough cash to pay short-term liabilities such as invoices or wages on time.

How do I calculate the liquidity bottleneck?

The liquidity bottleneck is calculated by comparing incoming and outgoing payments over a specific period of time. When payouts exceed deposits, there is a bottleneck.

Can I avoid liquidity bottlenecks with an app?

Apps such as Tidely are particularly helpful to avoid liquidity bottlenecks. These tools provide a comprehensive overview of the company's financial situation, monitor incoming and outgoing payments in real time, and generate automated reports. They enable precise cash flow analyses and forecasts so that financial bottlenecks can be identified and avoided at an early stage.

What to do in case of a liquidity bottleneck?

Review all outstanding receivables and remind defaulting payments. Negotiate extended payment terms with suppliers and try to reduce spending. In some cases, a short-term credit line, a repayment suspension or factoring can also help to bridge bottlenecks.

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